Amazon drops low-price strategy in grocery expansion

Dec. 11, 2013
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An AmazonFresh truck in San Francisco / Amazon

by Alistair Barr, USA TODAY

by Alistair Barr, USA TODAY

SAN FRANCISCO -- Amazon.com CEO Jeff Bezos built the world's largest Internet retailer by having the lowest prices.

That strategy is changing as the company expands into the vast grocery and consumer packaged goods market through its AmazonFresh business.

Now the priority is convenience rather than the lowest prices, an approach that could limit how much of this market Amazon can grab from grocery store operators like Safeway and Kroger and other rivals including Wal-Mart Stores, FreshDirect and the start-up Instacart.

AmazonFresh, which delivers groceries and related items the same day or the next day, started as a test in Amazon's home town of Seattle several years ago. The service expanded to Los Angeles earlier this year and launched in San Francisco Wednesday. If those cities perform well, the company may expand to many other urban areas and even outside the U.S. next year.

The thought of Amazon entering a new sector usually strikes fear into the hearts of incumbent companies as they worry profit margins will have to fall to compete with the Internet giant's lower prices.

But AmazonFresh prices are higher, or similar to most grocery stores, according to a recent analysis by RetailNet Group.

A basket of almost 30 grocery items from AmazonFresh in Los Angeles cost $94.80 and AmazonFresh in Seattle charged $99.58, according to a September survey by RetailNet.

Walmart To Go, an online grocery delivery rival, charged $80.38 for the same products and it cost $84.85 to have Instacart pick up and deliver those items from Trader Joe's, the survey found. Online, only Safeway's delivery service cost more than AmazonFresh in Seattle, at $101.83.

A similar basket of groceries cost less than $90 at physical grocery stores in LA run by Walmart, Trader Joe's and Target, the survey also found.

AmazonFresh also charges a $299 subscription for customers in LA and San Francisco. This makes grocery deliveries free for orders over $35 and it also gives shoppers access to the benefits of Amazon's Prime service, which including free two-day deliver on most of the other stuff the company sells through its main website.

"This seems like a huge hurdle for shoppers to jump just to order groceries online, and artificially limits their addressable market," said Dan O'Connor, CEO of RetailNet Group.

AmazonFresh prices suggest that Amazon is targeting the mid-to-premium shopper who usually buys at Costco, Whole Foods, Bristol Farms and other high-end grocery stores, he added.

Indeed, shares of Kroger and Safeway, among the largest grocery chains in the U.S., have risen 55% and 85% respectively so far this year, outperforming Amazon stock.

Handling fresh meat and other perishable food requires an expensive labor base and skill set that Amazon may not be willing to take on. Instead, the company works with suppliers, distributors and other third parties for this important part of the process. But this means the company has to share more of the revenue with these other players, giving it less room to lower prices.

"They are not doing extensive prepping and trimming of fresh foods. It's a lower touch operation," said Tom Furphy, who helped run AmazonFresh for about four years and is now CEO of venture capital firm Consumer Equity Partners. "That means the combination of quality and good prices becomes tougher."

"They will serve a less price conscious and time-starved customer," he added. "They want people to feel good about the prices, but it's about convenience rather than the lowest prices."

Jim Cascone, co-owner of Huntington Meats, an LA butcher that supplies AmazonFresh, said the service has increased sales because a lot of his customers are too busy to make trips to physical grocery stores.

"We are in Hollywood and my clientele are script writers and music people who are on deadlines," he said. "They don't have much time, but they come in when they can to tell me how much they like AmazonFresh."

But there are other signs that the LA expansion has started slowly. Some consumer packaged goods manufacturers have only got one order so far from AmazonFresh since it launched in the city in June, according to Spencer Millerberg, CEO of One Click Retail, which provides data and analytics to CPG manufacturers looking to sell more online.

The velocity of items sold through AmazonFresh in LA "is rather low from measurements I am seeing," he added.

A lot of people may have ordered through AmazonFresh during the initial trial period and then not ordered again, explained Millerberg, who used to work at Amazon.

"While we can't share specific figures around sales, we think we've built a unique and exciting service that has incredible value â?? and a growing number of customers seem to agree," Amazon's Stanzel said.